Exxon Mobil Has Attractive Growth Prospects

In late October/early November, identifying attractively valued wonderful companies was reasonably easy. Irrational exuberance, however, returned part way through November. This has me thinking that many investors are making emotional investment decisions. This is a terrible way to invest since our emotions have a tremendous influence over our expectations. When we neglect to look at a company's underlying fundamentals and invest primarily on share price behaviour, an investment in a great company can lead to disastrous long-term returns.

For example, the value of a $10,000 investment in both Cisco (CSCO) and Intel (INTC) on March 6, 2000 is currently only worth $10,068.78 and $8,303.94, respectively; the average annual total return is 0.03% and -0.81%...and this is with dividend reinvestment. The average annual total return is -0.5% and -1.13% without dividend reinvestment.

Even an investment in Microsoft (MSFT) made on March 6, 2000 did not fare well! On March 7, 2014, a $10,000 investment was only worth $11,384.86 (with dividend reinvestment) for an average annual total return of 0.93%. Without dividend reinvestment, the investment value was only $10,283.89 for an average annual total return of 0.2%.

When a company's shares are priced to perfection, the company needs to consistently meet investor expectations. Failure to do so and the company's share price often plummets.

On the other hand, there are profitable companies generating significant free cash flow (FCF) whose valuations imply low investor expectations.

One such company is Exxon Mobil (XOM).

I have reviewed Chevron (CVX) several times with my most recent CVX post pointing out why I view it as a 'Buy'.

I last reviewed XOM some time ago in my July 14, 2022 guest post at Dividend Power. Since more than a year has elapsed from the time of my last review, I take this opportunity to revisit this existing holding.

Company Overview

You are undoubtedly familiar with XOM to some extent. A great source of information from which to gain a deeper understanding of the company, however, is the 2022 Annual Report and the Form 10-K.

Pioneer Natural Resources (PXD) Merger

On October 11, XOM announced its intent to merge with PXD; PXD is one of the largest producers in the oil-rich Permian Basin.

This Press Release and Presentation reflect the transaction details.

This acquisition is XOM's largest since its $75B merger with Mobil in 1999.

The merger is an all-stock transaction valued at ~$59.5B based on XOM's closing price on October 5, 2023. Under the terms of the agreement, PXD shareholders will receive 2.3234 shares of XOM for each PXD share at closing. The implied total enterprise value of the transaction, including net debt, is ~$64.5B.

Expectation are for this transaction to close in the first half of 2024 and is subject to customary regulatory reviews and approvals.

On December 7, XOM's CEO dismissed worries that the Federal Trade Commission (FTC) could hold up the XOM's pending acquisition of PXD. While the deal appears large, the transaction is small in the context of the broader US oil market as crude production from the acquisition would amount to less than 5% of the US total.

Denbury Acquisition

On July 13, 2023, XOM announced its intent to acquire Denbury, an experienced developer of carbon capture, utilization and storage (CCS) solutions and enhanced oil recovery. The acquisition is an all-stock transaction valued at $4.9B, or $89.45 per share based on XOM's closing price on July 12, 2023. Under the terms of the agreement, Denbury shareholders will receive 0.84 shares of XOM for each Denbury share.

The presentation which accompanies this acquisition announcement is accessible here.

On November 2, XOM announced the completion of the Denbury acquisition.

Corporate Plan

On December 6, XOM presented an update to its corporate plan. Material related to this event is accessible here. However, I provide the following images from this presentation for ease of reference.

Capital expenditure projections call for $23B - $25B in FY2024 and $22B - $27B annually from 2025 through 2027. According to XOM, these expenditures should generate average returns of 30%, with more than 90% of the spending having payback periods of less than a decade.

Lower Emission Investments

XOM is investing $17B through 2027 to reduce emissions with a focus on carbon capture, hydrogen and biofuels.

XOM has a long history of developing innovative products for the auto industry – from fuels to lubes to advanced plastics. It is now advancing a new one: lithium.

Lithium is a key component of electric vehicle (EVs) batteries. The world will need considerably more lithium to meet EV projected growth. XOM plans to become of leading supplier of lithium, using a modern process that has significantly less environmental impact than traditional mining.

Material related to XOM's lithium related initiatives is accessible here.

In early 2023, XOM acquired the rights to 120,000 gross acres of the Smackover formation in southern Arkansas. This area is considered one of the most prolific lithium resources of its type in North America.

Work has already begun for the first phase of XOM's North America lithium production. The product offer will be branded as Mobil™ Lithium.

XOM plans to start producing battery-grade lithium at the site as soon as 2027 and aims to supply enough of the mineral to support the manufacture of 1 million electric vehicles annually by 2030.

This lithium operation comes as the major oil companies are under pressure to address climate change.

Guyana Operations

XOM initiated oil and gas exploration activities in Guyana in 2008. A Guyana project overview provides a good explanation of XOM's activities in that region.

In the first week of December, Venezuelans were asked to vote if they supported the establishment of a new state in a contested area, known as the Essequibo. The 61,600 square-mile Essequibo region makes up two-thirds of Guyana, and holds enormous oil reserves off its coast.

While Venezuela’s National Electoral Council counted more than 10.5 million votes, the Associated Press reported that few voters could be seen at polling sites throughout the voting period.

Venezuela’s National Electoral Council claims the results of the vote called for Venezuela to claim sovereignty over a large swathe of their oil-rich neighbor Guyana. This marks the latest escalation in a long-standing territorial dispute between both countries.

The dispute over Essequibo is more than a century old. In 1899, an international arbitral tribunal awarded the territory to Britain, when Guyana was still under its colonial rule. Venezuela has since actively disputed this. Guyana, however, has maintained that the accord is legal and binding, and in 2018 it sought the International Court of Justice to rule it as such.

The border issue between Venezuela and Guyana has flared since 2015 following oil exploration operations by companies like XOM. Venezuela believes Guyana has no right to grant oil concessions in the maritime areas off the disputed territory.

The dispute will likely need to be resolved in the International Court of Justice.

Financial Review

Q3 and YTD2023 Results

XOM released its Q3 and YTD2023 results on October 27. Since the end of Q4 and FYE2023 are fast approaching, there is little value in reviewing these results. The material related to this earnings release, however, is accessible here.

Risk Assessment

Oil prices can be extremely volatile but XOM forecasts strong cumulative surplus cash flow of ~$80B at $60 Brent without incremental debt. Brent Crude Oil Last Day Financ (BZ=F) is currently above $75 as I compose this post.

XOM’s current domestic long-term unsecured debt ratings and outlook are:

• Moody’s: Aa2 (stable) last reviewed June 2023.
• S&P Global: AA- (stable) last reviewed September 2023.

The rating assigned by Moody’s is the middle tier of the high-grade investment-grade category. It is one tier above the rating assigned by S&P Global.

Both ratings define XOM as having a very strong capacity to meet its financial commitments. It differs from the highest-rated obligors only to a small degree.

Dividends and Dividend Yield

XOM's dividend history is accessible here.

XOM distributed dividends of $9.02B, $10.092B, $10.875B, $11.568B, $12.09B, $12.453B, $13.001B, $13.798B, $14.652B, $14.865B, $14.924B, and $14.939B in FY2011 – FY2022. In the first 9 months ending on September 30, 2023 it distributed $11.102B.

On December 11, XOM will distribute its first quarterly $0.95/share dividend. With share trading at ~$98.40 the forward dividend yield is ~3.86%.

Share Repurchases

XOM’s track record of share repurchases has been exceptionally weak since FY2015. In FY2011 – FY2022 it repurchased $22.055B, $21.016B, $15.998B, $13.183B, $4.039B, $0.977B, $0.747B, $0.626B, $0.594B, $0.405B, $0.155B, and $15.155B. In the first 3 quarters of FY2023, it has repurchased $13.092B.

The weighted average number of diluted shares outstanding in FY2013 - FY2022 (in millions of shares) is 4,419, 4,282, 4,196, 4,177, 4,257, 4,270, 4,270, 4,271, 4,271, and 4,275. For the 3 months ending on September 30, 2023, the weighted average number of diluted shares outstanding was 4,025.

The acquisition of Pioneer Natural Resources (PXD) is expected to close in the first half of 2024. Once this happens, XOM plans to increase its annual share repurchase program to $20B in 2024 -2025, up from $17.5B in 2023.

Valuation

In FY2013 - FY2022, XOM's P/E levels were 13.21, 11.63, 16.45, 42.18, 27.24, 12.53, 20.28, 52.85, (negative in FY2021), and 9.00.

Looking at XOM's valuation, we see 'the bar' is set fairly low.

In the first 3 quarters of FY2023, XOM generated $6.98 and $7.04 in diluted EPS and adjusted diluted EPS. Its current forward adjusted diluted PE ratio is ~10. In the first 3 quarters of FY2023, however, it generated ~$28.4B of GAAP earnings and ~$26B of Free Cash Flow (FCF). In addition, its debt-to-capital and net debt-to-capital ratios were ~17% and ~4%, respectively, at the end of Q3 2023.

Using the current ~$98.40 share price and adjusted diluted earnings broker estimates, we get the following forward adjusted diluted PE levels.

• FY2023 – 22 brokers – mean of $9.25 and low/high of $8.90 – $9.94. Using the mean estimate, the forward adjusted diluted PE is ~10.6.
• FY2024 – 23 brokers – mean of $9.45 and low/high of $7.98 – $11.53. Using the mean estimate, the forward adjusted diluted PE is ~10.4.
• FY2025 – 16 brokers – mean of $9.69 and low/high of $7.04 – $12.05. Using the mean estimate, the forward adjusted diluted PE is ~10.2.

The variance between $7.04 in YTD adjusted diluted EPS and the $9.26 mean of FY2023 broker estimates is $2.22. If XOM were to generate $2.25 in adjusted diluted earnings in Q4 2023, FY2023 adjusted diluted earnings would be $9.29. Leaving the forward adjusted diluted PE at ~10.6, we get a ~$98.5 share price ($9.29 x 10.6).

If, however, XOM's forward adjusted diluted PE were to expand to 12, for example, we would be looking at a ~$111.50 share price ($9.29 x 12).

I don't expect much of a change in XOM's valuation between now and FYE2023. If, however, XOM's PE were to increase from ~10.6 to 13 by FYE2024, we could be looking at a share price approaching $123 ($9.45 x 13).

In essence, investor expectations are so low that a slight improvement in investor sentiment could lead to a reasonable shareholder return within a 1 year timeframe.

Final Thoughts

At the other end of the spectrum, we have companies with lofty valuations thus implying investors have very high expectations.

The Magnificient 7 (Alphabet GOOGL, Apple AAPL, Amazon AMZN, Meta Platforms META, Microsoft MSFT, Nvidia NVDA and Tesla TSLA) might be considered the new stock market leaders. Their valuations, however, leave little room for error.

• The current PE ratios are 32, 77, 26, 29, 36, 62, and 78.
• The current forward PE ratios are 27, 41, 20, 19, 29, 23, and 63.

I know XOM and the Magnificient 7 are very different companies. However, I think many investors might get a rude awakening if the valuation of the Magnificient 7 decline slightly.

The time to invest in great companies is when expectations are low. Based on my analysis, I acquired an additional 100 shares @ ~$99/share in one of the 'Core' accounts in the FFJ Portfolio on December 6. I now hold 730 shares in a "core" account and 443 shares in a 'Side' account within the FFJ Portfolio. Additional shares are held in a retirement account for which I do not disclose details.

I wish you much success on your journey to financial freedom!

Note: Please send any feedback, corrections, or questions to [email protected].

Disclosure: I am long XOM and CVX.

Disclaimer: I do not know your circumstances and do not provide individualized advice or recommendations. I encourage you to make investment decisions by conducting your research and due diligence. Consult your financial advisor about your specific situation.

I wrote this article myself and it expresses my own opinions. I do not receive compensation for it and have no business relationship with any company mentioned in this article.